the one warning you want to listen to

Ignore BIS at your own peril....


June 24, 2012, 2:09 p.m. ET.
Wall Street Journal

BIS Official Warns of Central-Bank Overreach

By TODD BUELL And DAVID WESSEL
The unconventional measures introduced by many central banks in response to financial turmoil could create other problems if carried out for too long, the general manager of the Bank for International Settlements said Sunday.

Central banks currently find themselves "caught in the middle," Jaime Caruana said, "forced to be the policy makers of last resort."

They are providing monetary stimulus on a "massive scale," supplying liquidity to banks unable to fund themselves in markets and easing government financing burdens by keeping interest rates low, said Mr. Caruana, speaking in Basel, Switzerland, at the annual general meeting of the BIS, a consortium of the world's central banks.

"These emergency measures could have undesirable side effects if continued for too long," he said. "A worry is that monetary policy would be pressured to do still more because not enough action has been taken in other areas."

Mr. Caruana's comments come as central bankers from Beijing to Frankfurt to Washington come under renewed pressure to step up efforts to resuscitate the slowing global economy. Some economists and politicians—and some central bankers in the U.S. and the U.K.—argue that central banks are too hesitant, condemning their economies to slower growth and higher unemployment than necessary in the wake of the financial crisis.

Other economists and some central bankers—in the U.S., Germany and elsewhere—counter that curing the ills of advanced economies lies now with government deficit-cutting and policy changes that can only be made by elected politicians.

"Fiscal adjustment, the repair of banks' balance sheets and other reforms cannot be put off in the hope of better times," Mr. Caruana said. "Relying only on central bankers but failing to act on other fronts would ultimately damage confidence and increase the risks to macroeconomic and financial stability."

Among the risks, he said, prolonged monetary stimulus might make structural or fiscal adjustments seem less urgent.

Financial-stability risks may emerge as financial firms are unable to earn high returns and thus shift to riskier investments, he said

And "if markets come to see monetary policy decisions as constrained by the growing financing needs of government, the ability of central banks to control inflation would, at some point, be seriously compromised," Mr. Caruana said.

Countries with the weakest fiscal positions and those most dependent on borrowing from foreigners will have to move quickly. Stronger economies, particularly those "too dependent on exports," he said—without naming names but making an obvious reference to Germany and China—should "re-orient" their economies to rely more on domestic demand, he said.

Earlier Sunday, the BIS said the euro zone should develop a unified banking system to help stem its debt crisis. Banks in different countries in Europe "must become European banks" to help stop national problems spreading across borders, the Basel-based bank said in its annual report.

BIS Chairman and ECB Governing Council member Christian Noyer called for better financial regulation and more international cooperation to reduce financial imbalances. "We have yet to achieve the goal of a strong and stable financial environment for the global economy," said Mr. Noyer, who also is the head of France's central bank.

The BIS's comments come after world leaders at a summit in Mexico earlier this month discussed creating such a banking union as a means to prevent problems in one country from spilling into others. But no firm decisions have yet been made.

While Europe's borders have "become irrelevant for finance and for central banking," wrote the BIS, "authorities in one country still have only limited responsibilities for actions that a financial intermediary takes in another country."

The BIS praised suggestions made in Europe that would "unify banking rules now fragmented along national boundaries" as well as centralize responsibility in a common regulator, supervisor, deposit insurer and resolution authority.

European Central Bank President Mario Draghi broached the topic of a banking union in late May during testimony in Brussels. Though the idea has gained traction in some quarters, bank associations in Germany have been particularly resistant as they worry that this would transform into a "transfer union"—a shifting of funds from northern Europe to the southern economies, where some argue fiscal policy and supervision aren't as strong.

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